As employers start to reopen and bring employees back to work, bonus programs (such as short-term and long-term bonuses), equity-based compensation arrangements (such as restricted stock, stock options and phantom equity), and nonqualified deferred compensation plans may be the last thing on any employer’s mind, but employers should review plan documents and award agreements to determine the effect that terminations, furloughs and rehires have on the benefits payable from those plans. It may be that some bonus opportunities and awards have lapsed and/or actions need to be taken to amend or replace other opportunities and awards.
Bonus Plans and Phantom Equity Awards. Bonus plans and phantom equity awards (which usually are simply cash bonuses with equity-based formulas) often have a requirement that the employee be continuously employed through some specified date (for example, the last day of a performance period or the date of payment) in order to be entitled to receive the bonus. Employees terminated during the COVID-19 shutdown who are rehired would not have satisfied such a “continuous employment” requirement, and the employment termination itself could have resulted in the lapse of the award. In addition, subsequently waiving such a requirement could affect how a bonus arrangement was structured and whether it continues to either comply with or be exempt from the requirements of Section 409A of the Internal Revenue Code of 1986, as amended (the “Code”), and may lead to unexpected adverse tax impacts.
Stock Options and Restricted Stock. Stock options and restricted stock awards often provide that the unvested portion of such an award is automatically forfeited upon an employee’s termination of employment. In addition, there usually is a limited period of time following termination during which a vested stock option can be exercised, after which the entire option terminates. Overlooking forfeiture and termination provisions (for example, where employees are subsequently rehired) could be treated as a re-grant of an award, possibly affecting whether stock options satisfy requirements necessary for the option to be exempt from Code Section 409A or resulting in adverse tax consequences to the recipient (for example, where a recipient previously made a Code Section 83(b) election).
Nonqualified Deferred Compensation Plans. A nonqualified deferred compensation plan that is subject to the Code Section 409A requirements (“NQDC Plan”) must specify when the deferred amounts will be paid and must be administered in accordance with its terms. Often, a “separation from service” is specified as a payment event for deferred amounts. Whether a COVID-19‑related furlough or termination constitutes a separation from service that should result in the payment of the deferred compensation under a NQDC Plan can depend on whether the individual was reasonably expected to render additional services, the extent of and whether any decrease in the level of services was expected to be permanent, and the length of certain leaves of absence. In addition, a rehire generally does not allow payments of deferred amounts that are payable upon a separation from employment to be suspended once they start. Lastly, the failure to comply with applicable Code Section 409A requirements results in adverse tax consequences to the employee, including federal taxation of deferred amounts at the employee’s marginal tax rate plus 20%.